Efrat Investments LLC v. Hub Cyber Security Ltd.

Background

This consolidated securities class action concerns Hub Cyber Security Ltd.’s business combination with Mount Rainier, a special purpose acquisition company, and Hub’s subsequent listing on NASDAQ. Plaintiffs alleged that the registration statement and prospectus used for the transaction contained materially misleading statements or omissions in violation of sections 11, 12(a)(2), and 15 of the Securities Act of 1933.

The alleged problems concerned three main subjects: whether $50 million in private-investment-in-public-equity financing was committed; Hub’s internal-control problems, including alleged embezzlement by former executives; and whether Hub’s flagship product was an established, market-ready product. Defendants moved to dismiss under the doctrine allowing dismissal when another country is a more appropriate forum, for lack of personal jurisdiction, and for failure to state a claim.

Judicial notice

The court granted in part and denied in part defendants’ motion for judicial notice. It took notice of certain public Securities and Exchange Commission filings, but only to determine what those documents said, not whether their contents were true. It denied as moot the request concerning one document because the parties had stipulated to dismiss the individual defendant involved. It denied the request concerning an Israeli-court hearing transcript because defendants sought to use statements made during that hearing to prove the truth of the matters asserted.

Forum and personal jurisdiction

The court rejected defendants’ request to dismiss the case on forum non conveniens grounds. It held that plaintiffs’ choice of a federal court in the United States was entitled to deference because the case concerns United States securities laws and securities traded in the United States. Defendants did not show that Israel was an adequate alternative forum for these claims, all of which arose under United States securities law. The court also concluded that the private- and public-interest factors weighed against dismissal, including the interest in access to United States courts for users of United States securities markets.

The court also held that plaintiffs had met their initial burden to establish personal jurisdiction. The complaint alleged that each individual defendant signed either the allegedly misleading registration statement or prospectus. The court stated that such allegations were sufficient at the motion-to-dismiss stage, and defendants abandoned their personal-jurisdiction argument in their reply.

Section 11 statutory standing

Section 11 generally allows investors to sue over material misstatements or omissions in a registration statement when they can trace their securities to that registration statement. The court held that plaintiffs adequately alleged this connection. The complaint alleged that Mount Rainier and Legacy Hub shareholders received newly registered Hub securities as part of the business combination, and it also alleged purchases of aftermarket shares traceable to Hub’s registration statement.

The court rejected defendants’ argument that purchases of Mount Rainier or Legacy Hub shares before the merger could not support section 11 standing. At this stage, the complaint plausibly alleged that the plaintiffs received newly registered Hub shares issued under the de-SPAC registration statement. The court therefore allowed the section 11 claim to proceed, except to the extent it relied on theories rejected in the court’s later analysis.

Section 12(a)(2) standing and claims

Section 12(a)(2) applies to qualifying purchases made directly from a defendant through a prospectus or other covered public offering. The court held that the de-SPAC transaction could qualify as a public offering and that exchanging Mount Rainier shares for Hub shares could plausibly constitute a purchase of Hub securities. It therefore allowed Fodjo’s and Green’s section 12(a)(2) claims against Hub to proceed.

The court dismissed Agam’s and Aharon’s section 12(a)(2) claim on behalf of Legacy Hub shareholders because the complaint did not plausibly explain how or when those plaintiffs made qualifying purchases of Hub securities. The court stated that plaintiffs could seek to revive that claim through a limited motion to amend supported by additional allegations.

The court also dismissed the section 12(a)(2) claim against the individual defendants. Signing the offering documents alone did not adequately allege that those individuals were statutory sellers—people who transferred an interest in the security for value or solicited the purchase for a financial purpose.

Pleading standard

The court held that Rule 8(a), the ordinary pleading standard, applied rather than Rule 9(b)’s heightened standard for fraud allegations. Plaintiffs expressly disclaimed fraud and fraudulent intent, and the complaint alleged that defendants failed to use reasonable care and should have known about the alleged misstatements and omissions. The court concluded that the complaint sounded in negligence rather than fraud.

Alleged misstatements and omissions

The court held that the section 11 and section 12(a)(2) claims concerning the PIPE financing could not be treated identically because the relevant dates differ. For section 11, the relevant question was whether the registration statement was misleading when it became effective. The complaint did not plausibly allege that the PIPE financing was not committed at that time, so the section 11 claim based on the PIPE-financing statements did not survive.

For section 12(a)(2), the court used the date the business combination closed as the relevant point for this motion. The complaint plausibly alleged that the PIPE financing was not committed by then, because a replacement investor reportedly had not deposited the promised funds and Hub later disclosed that the financing did not close. The section 12(a)(2) claim against Hub based on the PIPE-financing statements therefore survived.

The court also held that plaintiffs plausibly alleged that the offering documents understated or incompletely described Hub’s internal-control problems and the embezzlement. Later investigation findings indicated that relevant weaknesses existed before the offering documents became effective. The court concluded that the alleged risk disclosures did not describe the specific risk that had already materialized, including embezzlement enabled by inadequate oversight of financial-account signatory rights. It also rejected defendants’ argument that the dollar amount of the alleged embezzlement alone made the issue immaterial.

The court held that statements describing Hub as an established, cash-positive business with established products and a client base could mislead a reasonable investor if the flagship product was not close to being ready for market. Claims based on those statements therefore survived the motion to dismiss.

Regulation S-K claims

The court dismissed claims based on Item 303 of Regulation S-K because the alleged problems were existing conditions, not trends or uncertainties of the type covered by that provision.

The court held that an issuer must have actual knowledge of a risk to be liable under Item 105 of Regulation S-K. The section 12(a)(2) claim based on the PIPE-financing risk survived because plaintiffs plausibly alleged that defendants knew before the merger closed that the financing was not committed. The corresponding section 11 claim failed because the complaint did not plausibly allege that defendants knew of that problem when the registration statement became effective.

The section 12(a)(2) claim based on the embezzlement and internal-control risks also survived against Hub. The section 11 claim based on those matters was dismissed as to individual defendants other than Eyal Moshe because the complaint did not indicate that they knew the extent of the problems when the registration statement became effective. Claims based on the failure to disclose the risk that the flagship product might take months to reach market survived under both sections 11 and 12(a)(2).

Section 15 claims

Section 15 imposes control-person liability on individuals or entities that control someone liable under section 11 or section 12. The court held that plaintiffs plausibly alleged primary violations by Hub and adequately alleged control because the individual defendants signed or authorized the signing of the registration statement or prospectus. The section 15 claims against the individual defendants therefore survived.

The court also held that section 15 does not require the same separate showing of culpable conduct sometimes required under section 20(a) of the Securities Exchange Act of 1934. The section 15 claims consequently survived the motion to dismiss.

Disposition

The court granted defendants’ motions to dismiss in part and denied them in part. The section 11 claim survived against all defendants except insofar as it was based on theories rejected in the opinion. Agam’s and Aharon’s section 12(a)(2) claim was dismissed. Fodjo’s and Green’s section 12(a)(2) claim was dismissed against the individual defendants but survived against Hub. The section 15 claim survived against the individual defendants.

The court directed the parties to submit a joint case-management plan with a proposed schedule within 14 days. The Clerk was directed to terminate several docket entries and to terminate Efrat Investments LLC and Reese Tripp as plaintiffs because they were not named in the operative complaint.